I don’t know about you but quite frankly the ever-constant changing of the tax landscape must be damaging to the country’s confidence to invest for the future. April 2027 is confirmed as one of the biggest shake ups in the way pensions are taxed for some time, arguably since George Osborne and Pension Freedoms in 2015. Thing is, it isn’t going to affect us personally, it is targeting our beneficiaries, our families, our personal legacy.
The government has pushed through legislation to ensure that most unused pension funds (be aware it isn’t ALL pensions) will be included in an individual’s estate for inheritance tax (IHT). When they are unused, this will cover SIPPs, workplace defined contribution pensions, etc. Sound fair? Depends on how you look at it. Pensions were never designed to be used for estate planning. They were there to be tax-efficient to provide for the individual during their life. Financial advisers took advantage, quite rightly, of the tax treatment not just at outset but in retirement and on death for the benefit of our clients and their families.
Now, those that have used their pensions to provide not just for themselves and family in retirement but with a view to passing this wealth on as part of intergenerational planning, face quite a serious headache. A legacy IHT bill. Now it is worth noting that the spousal exemption will remain and there will be no IHT test when a pension is passed to a surviving spouse. Good.
Let us take a very simple scenario though, a surviving spouse has a defined contribution pension of £500,000 when they pass after age 75. All other NRB and RNRB allowances have been used up. Simple scenario. Her beneficiaries are now facing an IHT bill on this accumulated wealth of 40% before they inherit anything. All of a sudden that £500,000 becomes £300,000. The beneficiaries are then looking to use some of this family wealth to pay down their mortgages. Initially, not a lot but £50,000. Already higher rate taxpayers they are then facing an income tax bill of a further 40% on the £50,000! Taking this down to £30,000 net. You can then see this as an effective tax rate of 64% on these monies. Is that fair? Those with estates north of £2m could end up with effective tax bills of up to 87%!!
You can see why the government have seen it as an ‘easy’ target. Especially one that is desperate to raise cash. Latest HMRC figures show that 31,500 estates paid IHT in 2022/23, whereas there are an estimated 213,000 estates per year with inherited pension wealth…
The government will say that these changes will mean that only 8% of estates will be affected by these changes. Still a very small number. But let us not dismiss the effect that fiscal drag will continue to have in pulling more and more estates into this trap.
I am sure this won’t be the last time we speak on this matter but it is one Financial Advisers up and down the country will be having with their clients.
